Friday, October 30, 2009

The economy must adjust to develop

From time to time, I talk to business people in Jamaica who tell me that with each passing day business is getting more and more difficult, as buyers are not only spending less but are taking longer to pay.

We see also where financial institutions have been reporting a fall-off in consumer loans, and targeting the small and micro business sectors.

Added to this we see where some 30,000 jobs have been lost since the start of the year, and my own expectation is that we may see another 15,000 more in job losses before the end of the fiscal year.

Money circulation
The fact is that real money in circulation has taken a beating, and more importantly the consumer purchasing power has taken a severe beating. When we speak about a vibrant economy it is important to remember that this is only possible with spending power in the hands of the average consumer, as we have seen in the US, which has had to introduce a very large stimulus package to keep their economy going.

The most recent US data has shown that the last quarter GDP has increased by 3.5 per cent but this in my view was driven by stimulus money more than any real recovery in the economy, as job losses still continue to mount.

In Jamaica's case, having spent all our future income already, we have no "savings" to create any stimulus for the economy. The fact is that the Jamaican consumer has been hit really hard over the past few months, and this trend I expect will continue for at least another few months. But this is necessary if we are to change the current economic structure of the country and reposition ourselves for development.
The following developments have caused havoc for the local consumer:

. 30,000 persons, or approximately 2.3 per cent of the labour force, have lost jobs since the start of the year;

. Real incomes have declined by about 10 to 14 per cent, as wages and salaries have been kept flat for the most part while we have seen inflation of 14 per cent in the last fiscal year; and

. There have been increases in taxes, food prices, fuel prices, and other basic items, further eroding the purchasing power of consumers.

This means that total consumer purchasing power has declined rapidly. Add to this the losses sustained by consumers in the unregulated investment schemes, and the fact that some have been paying off loans or saving more in anticipation of more difficult times, and you have a scenario where consumer spending has declined significantly. So even though the absolute amount of money in circulation may not be much different from what it was a year ago, the fact is that the real expenditure has declined significantly (even so, the BOJ has reported that the expansion in money supply was lower than projected). One could easily expect that real consumer expenditure could have declined by about 25 per cent year over year.

So what all of this means is that businesses are inevitably going to suffer and I expect that we will see business fallouts accelerating into the first quarter of 2010. In fact, when the car dealers received the recent stimulus package I was on a programme with two of them professing how happy they were with the stimulus. I told them that it would not make a difference and car sales would continue to decline. The fact is that consumer spending is driven by how many persons have jobs, expectations, and the purchasing power of consumers. So if one were to pull the stimulus money out of the US economy, there would no doubt be a decline once again.

Consumer spending necessary
Creating stimulus packages with no positive adjustment to the spending power of consumers will have little or no effect. The lesson from this is that instead of providing stimulus to the businesses, the government would be better off providing stimulus packages to the consumer. In the US, for example, the stimulus came mostly in the way of programmes such as the cash for clunkers, government employment projects, and extending unemployment benefits. This is the only way to positively impact the economy.

The Observer's Fashion Night Out is an innovative way of providing a stimulus to consumers as it provides them with greater purchasing power through lower prices. My own prediction is that the overall night will be relatively better for the merchants, but the downward trend in business will continue after the night is over. Businesses in clothing and other basic necessities should fare better. This one night will not develop any long-term loyalty, as loyalty in today's economy only comes through much lower prices.

But the fact is that this adjustment in the economy, through business fall-outs and lower consumer purchasing power, is necessary if the economy is going to develop. Jamaicans have for a long time lived above our means, thereby running up a significant trade deficit. The only way that we have been able to keep our heads above water, and avoid drowning, is to put on the debt "life jacket". Continuing the course of borrowing our way out of the problem will only make the adjustment more violent when it comes, as it is not possible to borrow forever. So the sooner we make the adjustment, the better it will be for us. Because we have taken too long to make this adjustment I think the next few months will be an experience in pain for many.

The role of the government in all of this must be to (1) encourage investment and (2) more importantly to ensure that the adjustment is as painless as possible. And this latter role is critical if we are to ensure the economy's adjustment in as rapid a timeframe and painless a manner as possible. Any prolonged adjustment period and too much pain will be bad for the country, and so careful policy implementation is going to be critical. Even if we were to select the appropriate policies and implement them, we could still have more challenges than we want.

What we will see is that businesses that rely on luxury items and imports are going to be the first to fail. Outside of that, businesses that fail to employ the necessary professional expertise to help them through this time will run into problems also. There are some that were more proactive than others and sought the assistance from last year and were able to adjust way in advance of the economic onslaught. Those less prepared will either see their capital depleted or will fade away into the sunset.

So even though the US economy is showing signs of improvement this is not going to have any short -term positive impact for Jamaica. We will continue to see the economy being weighted down by our past decisions. This adjustment, however, is necessary in order for us to put a halt to the stagnation we have found ourselves in since the 1970s (with a small moment of hope during the end of the 1980s) and start on the path of development.

As usual, however, the road we take is going to depend on the policy choices we make.

Friday, October 23, 2009


n July 2008, I wrote an article entitled "A perfect economic storm", where I indicated that 2009 would be the worst economic time since independence.

Since then the winds preceding the storm have been blowing but have not made landfall yet because of the slowing economies, which resulted in the significant fall-off in oil prices. If oil prices had remained even at current prices then I think we would have felt the effects earlier.

That storm is now about to make landfall in Jamaica, and those who were thinking would have started to make preparations from last year. This, particularly since this storm is going to be for a protracted period and a new thinking is needed in business and nationally to deal with it.

Signs of the times
The signs are showing every day that the storm is coming onto our shores. The Government first announced the need to go back to the IMF, and this was followed by reports of a private sector proposed liability management programme. Then came the downgrade by S&P, the very upfront speech by the prime minister, the presentations by Professor Harris and Mr Livshits, and finally the report from the Economist Intelligence Unit (EIU).

All these revelations come as no surprise to us locals who have been saying for a while (some from in the 1990s) that Jamaica has a very serious fiscal situation and that the only thing that has been holding the pieces together was the fact that we were willing to mortgage away the wealth of not only our children, but even further generations by borrowing money to satisfy a lifestyle we cannot afford.

It could very well reach a stage where pregnancy terms in Jamaica move to twelve months as babies may not want to be born to face the approximately $482,000 debt they are saddled with at birth. But the fact that these reports are coming from foreigners makes it more real to many of us who have not been ardent followers of Bob Marley and managed to "emancipate ourselves from mental slavery", always hanging on to the word when delivered with an accent other than Jamaican.

So here we are in October 2009, looking helplessly at the oncoming economic tsunami, as it starts to ravage our shores. Our only hope being that it will not stay with us for long but deliver a swift blow and destroy what it must quickly, so that the excruciating pain will not last. We are indeed caught between a rock and the harder choices we have to make with each passing day.

In Jamaica, I have come to realise that it is not only death and taxes that are certain but also prolonged economic hardship. And because of this many people have said to me that Jamaicans are used to suffering and so this will be no different. This time, though, it will be different as there is no capital market to freely access, foreign-exchange earnings are significantly down, oil prices are trending back up, crime continues to destroy the country's stability, and the workforce has been decimated by the failed education policies over the decades, which is responsible for over 50 per cent of secondary school leavers not attaining even one subject at CSEC level. I wonder if these people were not listening to the presentation made by the Prime Minister re the state of the country's fiscal accounts, or maybe they did not understand what he was saying.

Short-term fiscal challenge
So while Jamaica faces a fundamental economic challenge (which can be seen as the Balance of Payments issue), this is preceded in urgency by the short-term fiscal problem, which must of necessity be addressed. If we do not adequately address the short-term fiscal challenge then any economic policies we put in place will be useless from my perspective.

The next three to six months should be challenging for the fiscal accounts, as the economic challenges start to set in even further. And we see indications of these. In an article, carried in last Wednesday's Business Observer, it reports that retail merchants have been seeing a fall in sales and are hoping that the Observer's Fashion Night Out will improve sales. On the same day another article correctly states that rising oil prices will reverse the trade gap.

Both these articles point to what is on the economic horizon, and dare I say that the merchants will be sorely disappointed, as even if they were to see some improvement in sales over that night, the probability is that sales are going to fall back right after, leading into a very blue Christmas. Even the banks are reporting a fall-off in automobile loans year over year.

The fact is that real incomes and aggregate demand is much lower than it was one year ago. We have seen where there has been a freeze on public sector wages, and even in the private sector wages have been frozen.

Faced with an increasing fiscal challenge, the Government had no immediate alternative but to increase taxes a total of $24 billion for the fiscal year, reducing GDP (after considering the multiplier effect albeit some of finds its way back into the economy but the majority will not). In addition to this, the $18-billion expenditure cut by the government will negatively impact GDP by approximately $72 billion. To deal with the short-term fiscal challenge, the Government did not have much alternative.

We also see where over 30,000 jobs have been lost, with more to come. And if all of that was not enough, the country will have to grapple with higher oil prices in 2010, which I expect to be at least US$90 per barrel by the middle of 2010. At the very least also the global economy is going to see very sluggish growth, even while the risks to another decline is possible with the debt crisis that countries such as the US and Japan face, as they rack up significant fiscal deficits.

Jamaican-made challenges
The greatest concerns I have for the Jamaican economy, however, are things that we have created ourselves. Firstly, the situation with crime still continues to be a noose around our necks. Even if the economy were to attempt to make an acceptable adjustment, the crime situation would hamper its progress, as the report from the EIU correctly states. The second situation is the low literacy level of our
working population. Recent data suggests that over 50 per cent of school leavers have not achieved proficiency in even one subject. The problem we face therefore is that compounded by the Government's inability to provide a suitable social safety net; the labour force does not possess the skills necessary to fend for themselves during this difficult period. So the only thing they know how to do is find employment, which is decreasing, as many of the businesses they were working with depends on imports to survive.

But the problem is that with less expenditure in the economy (measured by a reducing GDP) and the limited ability of the government to access debt, then some of them will be forced to close down, or at best scale back their operations, leaving many without any immediate job prospects.

The prime minister indicated that Jamaica could be successful in obtaining some budgetary support from the IMF, and that would be welcome as it means that there would be monies available to support social safety and capital expenditure programmes, which are necessary to keep the economy buoyant.

Two-phased solutions
But the solutions must be seen in two phases. First, we must of necessity address the GDP situation, and this must be done through increased expenditure provided by fiscal initiatives. This can be done by either reduced taxes or increased targeted expenditure. This is what has worked to keep the developed economies afloat. The problem is where Jamaica gets the money to do so, as this sort of initiative is needed to resolve the challenges of the next three to six months if we want to maintain some buoyancy in the economy.

There are only two areas of fiscal expenditure that have enough critical mass to provide that sort of boost. The first is debt expenditure, but the Government has rejected any notion of a liability management programme, and wages and salaries. But based on what needs to be done to assess the wages and salaries situation, the redundancy payments that would have to be made, and the fact that most of the civil servants are teachers, nurses or police, then there is not much short-term benefit here.

I don't see increased taxes as an option as this will only serve to further reduce the GDP value and negatively affect businesses and jobs.

The only real short-term option we face is to borrow more money. And there is nothing wrong with that if the borrowed money is going to be surgically implanted in the economy to ensure the best return from those funds. If, on the other hand, the increased debt is spent on consumption then we fall back into the vicious debt cycle we have become so accustomed to.

What is needed is creating jobs through specifically targeting SMEs engaged in export-driven activities and also in the area of capital spending that will enhance foreign exchange-earning industries such as tourism and agro-processing.
In the medium to longer term, fundamental economic policy shifts will be needed to address Jamaica's development challenge and ensure that the increased debt to GDP ratio can be worked down. The economy will have to decline before it can start to develop. But the right policies are going to be necessary to ensure that when it declines it does in fact start to develop again.

As we are today caught between a rock and a harder place, as every day that passes the tsunami comes ashore the choices will get harder.

Sunday, October 11, 2009


If one has ever seen crabs in a barrel, you will realise that they all try to come out of the barrel at the same time. So they climb on each other, in futility, as they can never individually come out of the barrel. Soon all the crabs die and none will be successful. If, on the other hand, they all realised their individual deficiency then they would join "claws" and assist each other in making their way out of the barrel.

This is also the way of the market economy. What a true market economy does, however, is ensure that the strongest and most efficient crabs will always survive by virtue of the invisible hand that guides the market. This doesn't happen in Jamaica though, as through political interference we have managed to replace the invisible hand with a very visible one that rewards political tribalism over the stronger and more efficient players. The result of this interference over the years has been a very inefficient market structure and the eventual death of all the crabs, rather than ensuring that the strong and efficient ones live to once again grow the population of crabs.

Fiscal Accounts
We, are of course, seeing the result of that in our fiscal accounts today, which has always been known to us, but has been so well outlined by the prime minister two weeks ago. The fact is, everyone who has done mathematics knows that the only way to prove our fiscal equation that one and one equals three is to add debt to it, as is illustrated in a chart on page 22 of my book. I pointed out that 1996 is when we started on this downward path in our debt to GDP ratio, when the debt started to accelerate at a faster pace than GDP. Immediately before that the debt to GDP ratio had declined to around 90 per cent, from 212 per cent in 1984, and since then has climbed to where it is.

This small illustration confirms that the size of the debt to GDP ratio is not important but what we do with the debt is. In the early 1980s, we were coming out of what was then the worst recession since the 1930s, and borrowed up to 212 per cent of GDP, much of that borrowing went into policies aimed at the country's development, rather than consumption as we have done since the mid 1990s. The result is that Jamaica was able to generate growth rates averaging around six per cent towards the end of the 1980s and substantially bring down our debt to GDP ratio.

The prime minister correctly states what the fiscal challenge is, and what we need to do now is look behind the fiscal numbers to understand what the real development challenge is for Jamaica lest the crabs keep killing each other again as they try to emerge from the barrel.

For the first in a very long time a politician (the prime minister) has come to us and laid out exactly what the challenges are that face the country, and this frankness is good as it serves as a wake-up call to all those who have been avoiding the reality of our situation. People have asked me, for example, why I am so pessimistic in calls on the economy, not understanding that if the car is heading off the cliff there is only one way to interpret that. And that it is that, the car is heading off the cliff, with all of us in it. So I am heartened by the honesty of the prime minister, because hiding from the facts never help.

What we need to do now that the message is out is to clearly outline a detailed plan of implementation as to how the challenges are to be confronted. I believe that in that plan there not only needs to be some deliberate actions by the Government, but we also need to remove the tentacles of Government from the operation of the market. That is reducing the bureaucracy and interference the prime minister referred to. It cannot be that government expenditure constitutes 47 per cent of our GDP. By any measure this means that we are operating in a state-run economy, and not a true market-determined economy.

When this reduction of government involvement happens, I expect that quite a few businesses will fail and jobs will be compromised, and not only in the public sector. What is therefore very necessary is for the Government to lay out a transition plan that will ensure that lost jobs and failed businesses can be replaced with as little pain as possible. Because of our failure to adhere to market economy rules over the years, any implementation without a proper transition plan will cause a drastic adjustment that will cause much pain, and so a carefully laid out transition plan is going to be extremely critical.

Jamaica is once again faced with an opportunity to make the much-needed paradigm shift in our economy, and based on the numbers and social influences, I believe that this could be our last such opportunity. The prime minister has made the step in the right direction but the road is going to be long and painful, however, I have seen through numbers what the alternative is like and trust me, if we continue on the same path, all the crabs in the barrel we call Jamaica will perish.